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Category Archives: Anthony’s Update

Finance Minister Carole James announced the BC NDP Government’s budget yesterday and delivered on a wide variety of promises from its election platform. The key initiatives were centered around housing speculation.

The provincial government released a 30-point plan addressing housing affordability in the province.

Highlights from the plan include:

• The introduction of a two per cent speculation tax (0.5 per cent for 2018, two per cent in 2019 onwards). The tax will be charged annually on the property’s assessed value. Despite the name, this appears to be an absentee / vacant home tax. Details are not yet final, but it appears the tax would be levied to foreign and domestic investors who do not pay tax in B.C. Principal residences and long-term rentals would be exempted.

• Increase to the Foreign Buyer’s Tax (FBT) from 15 per cent to 20 per cent. Until now, the FBT only applied to home sales in Metro Vancouver; however, the NDP will extend this to other parts of the province including the Fraser Valley, Central Okanagan, Capital Regional District and Nanaimo.

• The Property Transfer Tax on sales of homes worth more than three million dollars will increase from three per cent to five per cent.

• Increase the School Tax on homes worth more than three million dollars.

• Elimination of the BC Homeowner & Equity Partnership. Applications will be accepted until March 31, 2018.

• Moving to stop tax evasion on pre-sale condo reassignments. The government will require developers to collect and report information about the assignment of the pre-sale condo purchase.

• Expanding benefits to low-income families and seniors living independently. The 2018 budget will increase benefits under the Renter Assistance Program (RAP) and Shelter Aid for Elderly Renters (SAFER) programs.

• Empowering home owners in Stratas to deal with short-term rentals. The budget will allow strata corporations to increase fines for homeowners who ignore short-term rental rules.

• Various measures to ensure proper enforcement and coordination with tax authorities on the above changes.

The past few months has seen an increase in mortgage lending rates, the introduction of a stress-test in mortgage lending criteria, and now measures to curb housing speculation in BC. These are all headwinds for housing prices in Vancouver, and, in theory, should have a cooling effect on future price movements. However, the local market has been resilient to changes made in the past few years and only time will tell if these new rules will have an impact.

Of course, housing was not the only issue addressed in the budget. Below is a summary of other key announcements:

• Affordable childcare. The NDP did not deliver on its $10 a day childcare election promise. However, they did introduce a new child care program that makes care effectively free for families with income below $45,000 and offers subsidies for families with income of between $45,000 – $111,000.

• The elimination of Medical Services Plan premiums by 2020 to be replaced by a payroll health tax for businesses. The payroll tax will apply to businesses with payroll in excess of $500,000. The rate will be tiered from $500,000 to $1,500,000 and top out at 1.95 per cent for businesses with payroll over $1.5 million.

• Increase in the BC Carbon Tax to $5 per tonne per year, adding $212 million a year.

• An increase in tobacco tax from 24.7 cents per cigarette to 27.5 cents.

• The luxury surtax on vehicles worth more than $150,000 will increase from 10 per cent to 20 per cent.

For 2018, the government is projecting a $151 million surplus. Interestingly, there’s a new line that wasn’t in previous budgets. It’s called “surplus before ICBC impacts”, and it shows a projected $903 million surplus for next year — but also a projected $1.076 billion loss from ICBC.

The fiscal state of ICBC has been well documented in recent weeks. Attorney General David Eby announced a variety of reforms earlier this month, such as caps on pain and suffering for minor injuries. The government estimates these reforms will save ICBC $392 million this year, but concedes that there’s no way of knowing to what extent the reforms will influence drivers and trial lawyers.

As we enter 2018, we would like to provide you with an overview of financial market results from the past 12 months, and to offer insights into some of the investment themes that may influence your investment portfolio over the coming year.

Several inquiries have come in concerning the current valuations of markets, where we are in the market cycle, and how to tackle current issues like NAFTA, interest rates, and tax reform. For this year’s outlook, we decided on a more visual approach and we hope that the graphics below will provide some guidance on these issues.

You will quickly notice that there are both optimistic and pessimistic charts. This was done purposely to provide a balanced view of the present investment landscape. Capital markets are complex and there are many data points to consider. Unfortunately, the situation cannot be simply summed up as “good” or “bad.”

Please feel free to contact us for elaboration on anything discussed in our newsletter.

#2: Every major bank and investment firm releases an annual market forecast. Below is the forecast from the TD Wealth Asset Allocation Committee (WAAC). Given current valuations and growth prospects, TD suggests maintaining U.S. equity content, decreasing Canadian equity, and increasing International equity. Although not included here, RBC Global Asset Management’s (RBC GAM) forecast has a very similar outlook.

#3: Also from TD Wealth, below is a summary of the opportunities and risks weighing on markets.

#4: NAFTA Renegotiation Scenarios. Courtesy of RBC GAM, this table plots four possible outcomes to the NAFTA talks and the potential impact on the North American economy.

#5: Also from RBC GAM, a table summarizing the impact of Trump’s proposed tax reform plan. The key takeaway is that markets have already “priced in” the positive impact of the tax plan.

#6: How does the current bull market compare to previous ones? Since 1929, the S&P 500 has had 10 market corrections (defined as a 20 per cent drop or more). The last correction was the global financial crisis in 2008. Markets bottomed out in March 2009 and we have been in a bull market since. From both a duration and return standpoint, this is the second longest bull market on record.

Also note that the average length of a bear market is only 24 months compared to 54 months for a bull market.

#7: How expensive is the U.S. market? If the previous slide provided you with cause for concern, this one is reason for optimism. Despite a 295% run-up since March 2009, the S&P 500 is not as expensive as you might believe. Price/Earnings (P/E = current stock price over the predicted next annual earnings period) is a very basic market valuation metric. The 25-year average P/E for the S&P 500 has been 16x and the current P/E is 18.2x.

#8: Consumer Confidence and the Stock Market. This is the investor psychology chart. Notice how peak consumer confidence tends to precede a recession? The time to invest is when we’re anxious about markets. The time to stay put is when we’re euphoric about them.

#9: S&P 500 intra-year declines and calendar year returns. The “short-term noise” chart. Despite average annual intra-year declines of 13.8%, the S&P 500 has had positive returns in 29 out of 38 years.

#10: Canadian and U.S. debt ratios and the labour market. Canadian households are more indebted than the U.S., but our labour market is healthier.

#11: Cryptomania. The meteoric rise of cryptocurrencies. The Crix cryptocurrency index grew by 38x in less than a year. Most analysts have defined this growth as a classic bubble, eclipsing all previous historical bubbles like the Nasdaq in the 90s, Gold Spot in the 70s and 80s, the Nikkei in the 70s and 80s, and even the Tulip bubble of the 1630s!

We were going to warn against trying to purchase into such a speculative asset class, but it seems the market has done this for us. As of the time of writing, the index has fallen 35% from its high on January 7.

#12: Impact of a 1% Rise in interest rates: On January 17, the Bank of Canada increased its key interest rate by 0.25% for the third time in six months. When rates rise, bond prices fall. The chart below plots the impact of a 1% rise in rates. It assumes a parallel shift (every part of the yield curve moves by 1%). UST stands for U.S. Treasuries (U.S. Government Bonds).

#13: Global Purchasing Manufacturing Index (PMI) for Manufacturing. The PMI is one of many gauges of economic strength. A PMI score of over 50 represents expansion of the manufacturing sector when compared to the previous month. A PMI reading under 50 represents a contraction. Every major developed nation had positive manufacturing data in the last half of 2017.

#14: Finally, the “what do I make of all this?” chart. Diversification and asset allocation are terms used endlessly in our industry, but that’s because they work. The preceding 13 charts have shown that there is both positive and negative data and it is near impossible to make (successful) big bets or major tactical changes on a year to year basis.

This final chart ranks the best to worst performing asset classes (from top to bottom) since 2003. As you can see, there is no discernible pattern. The grey box is asset allocation and shows you that a diversified portfolio will never be the best, never be the worst, but generally be “good enough” in the long-term.

Overall, we believe there are more positive takeaways than negative ones. Improving global growth and the continuation of accommodating monetary policy are two key drivers that should create an upward bias in equity markets. That doesn’t mean we will never experience a correction, particularly in the U.S., but it does suggest it could be shorter-term in nature.

I would like to close by wishing you a very happy, healthy New Year and to thank you for the continued opportunity to work with you as your financial planner. If you have any questions about your portfolio, or would like to discuss any changes, my team and I are more than happy to help.

Until the end of the year, we’ll be deviating from the usual “weekly brief” format. We believe it is a good time to take a final stock – pardon the pun – of your overall financial planning situation. Below is a checklist of some of the items we try to cover with you at your meeting. If you want to confirm an item on this list has been addressed, please do not hesitate to contact us. Our office will remain open during the holidays.

Investing

Portfolio mix. Different investments are taxed at different tax rates. If you invest in both registered and non-registered accounts, ensure you optimize your portfolio mix to ensure maximum tax-efficiency

The amount added to the TFSA room on January 1st, 2018 will be $5,500. This will bring the lifetime amount to $57,500. Consider putting funds into your TFSA to the extent you can make contributions (or via a transfer from your non-registered account). Ensure you don’t exceed your contribution room due to the significant penalty on over-contributions. If you have authorized us for CRA access, we can confirm your TFSA limit.

If you were planning on withdrawing from your TFSA, do so by the end of the year. The amount you withdraw will be added to your TFSA room at the start of 2018. If you withdraw in January 2018, you won’t get the room back until January 2019.

If you have investments in a non-registered account in a capital loss position, consider triggering the capital loss to offset capital gains realized during the year.

For non-registered accounts, delay purchases until January 2018 to minimize your allocation of taxable income for 2017 (after year-end distributions). For similar reasons, consider selling your mutual fund in a non-registered account before year-end as well (prior to year end-distributions).

Taxes

Any donations you want to claim on your 2017 tax return must be made by December 31, 2017. Donations must be made to a registered charity. Contributions above $200 result in a 29% federal tax credit. Keep the donation receipts! The CRA was more aggressive in requesting documentation to prove the donations were actually made.

If you are a first-time donor, you can claim an additional 25% credit on up to $1,000 of donations made after March 20, 2013. 2017 is the final year in which this credit can be claimed.

Public transit tax credit. This credit will be eliminated following the 2017 tax year. You can claim on your 2017 income tax return, only the cost pertaining of monthly passes for transit services for the period January 1 to June 30, 2017.

If you are over 65 with no private pension, consider withdrawing $2,000 from a RRIF account to trigger the $2,000 pension credit.

Home accessibility tax credits. If you incur eligible expenses of up to $10,000 to increase the mobility or safety of a senior, you will be able to claim the federal home accessibility home credit and BC senior’s home renovation tax credit.

RRSP

The deadline to make an RRSP contribution for the 2017 tax year is March 1, 2018. If you have authorized us for CRA access, we can confirm your RRSP limit, factoring in any contributions you’ve made with us. An RRSP contribution has a tax savings potential of anywhere between 20%-47.7% for BC residents.

If you turned 71 this year, this is the final year you can contribute to an RRSP. Consider making an RRSP contribution in December of the year you turned 71 if your income in 2017 is higher than what you expect in later years.

If you turned 71 this year, you must wind up your RRSP by the end of the year. For most people, this means a conversion to a RRIF account with minimum annual withdrawals starting the following year.

Consider withdrawing funds from your RRSP if you have low income for the year.

Self-Employment / Business / Corporations

Consider 2017 income splitting opportunities (spouse, children, parents, etc.) as the rule changes that are likely to come for corporations in 2018 may eliminate this strategy moving forward.

The new rules will grandfather any existing passive investment income currently held in a corporation. They will also allow passive income of up to $50,000 not subject to higher taxation. This means that under the new regime, you could add $1,000,000 (in addition to any grandfathered assets) generating income of 5% a year and be exempt.

If you are self-employed, consider purchasing capital assets before year-end. If the asset is available for use before the end of the year, you can claim one-half of the usual tax amortization for the year.

Consider paying a salary or bonus from your corporation to yourself in December. Usually, the payroll tax for this is due by January 15th (may be sooner depending on your remitter type).

Children

If you have an RESP and your child has turned 17 in 2017, this is the final year of his/her grant eligibility. If you have grant room remaining, you can contribute up to $5,000 in the final year, generating a $1,000 grant.

Pay child-care expenses for 2017 by December 31st, 2017 and get a receipt. Remember that boarding school and camp fees qualify for the child care deduction.

If your child qualifies for the disability tax credit, and if RDSP assets or income will not disqualify him/her from receiving provincial income support, consider setting up an RDSP to qualify for the Canada Disability Savings Bond (CDSB – lifetime maximum of $20,000 per child). Contributions to an RDSP qualify for the Canada Disability Savings Grant (CDSG – lifetime maximum of $70,000 per child)

Children’s fitness and art credit. Sadly, these tax credits have been completely phased out, and you won’t receive a credit for these costs on your 2017 return.

Other

Note that MSP premiums will be cut in half for all taxpayers in 2018. The provincial government intends to eliminate all MSP premiums within four years.

Most capital markets around the world registered impressive gains early in the second quarter before moderating in June, reflecting steady global economic growth and supportive business conditions. Unfortunately for Canadian investors, two Bank of Canada rate increases negatively impacted global returns, as the Canadian dollar appreciated relative to global currencies.

This has resulted in global stock market indices like the S&P 500 or Dow Jones Industrial Average (DJIA) having vastly different returns in U.S. dollars compared to Canadian dollars. As of September 1, the S&P 500 Index, a broad measure of U.S. large-cap equity performance, is up 10.6% for the year in U.S. dollar terms; however, when adjusting for the appreciation of the Canadian dollar relative to the U.S. dollar, the S&P 500 is up only 2%.

The same goes for the MSCI World, a global index that represents large and mid-cap equity performance across 23 developed market countries. It is up 12.3% year-to-date in local currency terms, but only 3.5% in Canadian dollars.

For a simple example, imagine taking $1,000 Canadian and converting it to U.S. dollars (USD) when the exchange rate is at 75 cents, resulting in $750 USD. Let’s say the $750 USD is invested in an equity, which then increases by 10% to $825. The $825 U.S. is converted back to Canadian dollars when the exchange rate is at 82 cents (the inverse of which would be 1.22 Canadian). The $825 thus becomes $1,006 Canadian. The 10% made on the equity is effectively erased by the increase in value of the Canadian currency. This is exactly what is happening with global equity funds right now, unless the managers have taken measures to hedge against currency movement.

The Canadian equity market noticeably lagged many other developed market indexes, despite strong economic output and employment data. The S&P/TSX Composite Index is down 0.6% for the year, based on softening oil prices, weaker financial shares and investor sentiment that was dampened by trade-related issues with the U.S.

Global fixed-income markets, meanwhile, prepared for the gradual end of ultra-low interest rates. As anticipated, the U.S. Federal Reserve Board raised its overnight lending rate by 25 basis-points in mid-June, the second such increase in 2017. The Bank of Canada has also raised rates twice, on July 12th and September 6th. An interest rate increase usually leads to declines in bond prices. The FTSE TMX Canadian Bond Index is up only 1.5% for the year.

What does this mean for you?

With a long-term perspective at mind: with higher interest rates, you can purchase fixed-income investments at a higher yield, and earn a higher return. With the Canadian dollar rally, you can buy global assets at cheaper prices. Any pullback in the Canadian dollar will boost Global equity returns.

Where do we go from here? Key points to remember:

Global economy is still very strong, and the Canadian economy is expected to moderate

Central banks around the world, including the Bank of Canada, are moving from emergency levels to neutral levels. There could be two more interest rate increases in the next year

Despite the increases, long term interest rates are still expected to remain “lower for longer“

Corporate health in equities remains very healthy and earnings growth is robust.

On July 18, 2017, Federal Finance Minister Bill Morneau released a consultation paper on proposed private corporation tax measures. These measures are designed to close tax advantages used by Canadians who use private corporations for income sprinkling, accumulating passive investment income and converting income into capital gains.

Most of the proposed changes are anticipated to be implemented on a go forward basis, effective for 2018. Many businesses will need to review their corporate and compensation structures and consider planning for changes to be in effect for 2018.

Which practices is the government focusing on?

1. Income-Splitting Using Private Corporations

Perceived Benefit: Shifting income that would otherwise be realized by a high-income individual to family members (usually a spouse) who are subject to lower personal tax rates (e.g., via dividends or multiplication of the lifetime capital gains exemption (LCGE)).

Proposed Measure: Extend the existing “tax on split income” rules that previously applied to minors (“kiddie tax”) to certain adult individuals. The change would effectively impose a tax at the top personal rate on dividends paid to any related individual who provide no labor or capital contributions to the business.

Reasonable payments made to related parties who do help in the business would not be affected by this change.

In addition, a related individual would no longer qualify for the LCGE in respect of capital gains that are realized, or that accrue, before the taxation year in which the individual attains the age of 18 years. Also, there will be restrictions on using the LCGE for gains accruing through family trusts.

Perceived Benefit: Corporate income tax rates, which are generally much lower than personal rates, may facilitate the accumulation of earnings that can be invested in a passive portfolio, providing the owner with a significant tax deferral advantage.

Proposed Measure: The government is considering changes such that investments held within corporations are taxed at the same effective rate as investments held directly. According to the government, the tax advantage conferred on private corporations – the lower rate of tax –was never intended to be used to realize higher personal savings.

What are the Next Steps?

No decision, consultation only: Until October 2, 2017, the government will accept submissions and comments from Canadians. Those interested in having their say should submit their comments to email hidden; JavaScript is required

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As we discussed last Friday in our Weekly Update, the Bank of Canada followed up on expectations by raising its overnight rate by 25 basis-points to 1.00%. Analysts had forecast a rate hike in either October or December, but recent Q2 GDP growth data exceeded expectation, leading some to predict a rate hike this week. This is the second such rate increase of 25bps, following up on the July 12th increase. Before the July increase, the overnight rate had been at 0.50%.

Inflation is below the 2% target, but there was a slight uptick during Q2. In the face of continued and robust consumer spending, solid employment figures and income growth, the Bank of Canada acted to raise the rate as a means of stemming further inflation.

Recent rate levels have been at historic lows, so these recent rate increases were, in a way, inevitable; still, they are the first such increases in 7 years. The Bank of Canada is confident that the economy is strong enough to weather these increases.

As one might expect, the markets have reacted by driving the Loonie up over 1 cent vs the Greenback to 81.81 cents USD, a 1.29% increase (as of 2:33pm EST).

Sources: Globe Advisor, Bank of Canada

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